Friday, July 12, 2013

My outlook and asset allocation for H2 2013 remain mostly unchanged (see also my strategy presentation from May Low systemic risks, low inflation and improving real growth): Systemic risks - which emanated mainly from the Eurozone - remain limited, inflation will be low for longer while real growth in developed markets can improve over the next quarters. On the other side, the outlook for several important emerging markets as well as commodity producing economies has been deteriorating.

The US economy has successfully averted the so-called
fiscal cliff and following a period of subdued dynamic, growth should
reaccelerate into year end. For one, the negative effects of the fiscal
tightening enacted earlier this year should slowly fade while the housing
market has turned around, the output of oil & gas is on a structural upward
trend and the combination of an improving labour market, rising real wages and
high pent up demand for consumer durables should support
consumption growth. Furthermore, the monetary transmission mechanism in the US
has been restored suggesting that the previously enacted monetary easing is
increasingly hitting the real economy. As a result, the US Fed will start
to taper its asset purchases in October and is likely to start rising rates in Q4
2014.
In the Eurozone, the economy remains mired in a mild
recession. However, growth should gradually move into positive territory during
the current half of 2013 and improve further going into 2014 even though it
will remain below trend. For one, the negative growth effects from rising energy prices
should fade while the negative growth effects from a restrictive fiscal policy
environment should slowly become lower. On
the other side, Spain, Portugal, Ireland and Greece have largely restored cost
competitiveness and as a result the positive growth impact from net exports
should increase. In line with the
ECB’s forward guidance, there is no rate hike on the horizon for a long time
and there remains a substantial probability for another cut in the repo rate,
albeit a cut in the depo rate into negative territory carries a very low
probability only. Furthermore, the ECB is likely to prevent an increase in
EONIA levels and should be expected to counteract a further marked fall in
excess liquidity.
Just as the growth environment in the US, Europe and
also in Japan (amid the massive easing of monetary conditions) improves, it will
become more difficult for a number of emerging market and commodity producing economies. China is actively trying to rebalance its economy, moving growth
away from a credit-fuelled and resource intensive investment boom towards more
consumption/services leading to significantly lower growth in the process. Moreover,
a large number of emerging markets have seen a deterioration in their
fundamental environment over the past years just as a constant stream of
capital flowed from Europe and the US into their economies. Private sector
credit growth has been rampant and financing conditions might become
increasingly restrictive in an environment where the Fed ends its USD glut. In
turn, risks will be rising over the course of 2014 that several EM central
banks will have to start selling their foreign currency reserves in order to
support its currency and domestic financial markets.
Those countries and markets which have been supported heavily by capital flowing out
of the US and Europe (i.e. commodities, EMs) are most at risk of a significant underperformance
as the combination of weakening fundamentals and the potential for a tighter
monetary environment amid capital outflows demand its toll. On the other side,
US, Europe and Japan should see a supportive mix of improving growth and an
ongoing growth supportive monetary environment. In turn, risky assets and
currencies of the EM/commodity producing world should continue to be sold on
uptics whereas developed markets’ risky assets as well as US/European fx should
be bought on dips. However, safe nominal and real yields have seen their lows
and moved back on a rising path, especially in the US.

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About Me

Daniel was Head of Economics & Strategy for developed markets at Dresdner Kleinwort until early 2009 and was responsible for the well-known 'Ahead of the Curve' flagship publication. He started as a Desk Analyst in the mid-90s for the former German government bond trading desk. He then became Head of Rates Strategy early last decade and later on also took responsibility for G10 economics, commodities strategy and asset allocation.
He is now the owner of Research Ahead GmbH located in Frankfurt am Main.

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